HCL's Leveraged Leap to India's Top Tech Circle

In borrowing the cash to take over Axon Group, HCL Technologies is challenging the cozy worlds of SAP installation and Indian tech finance

India's tech industry has emerged on the global scene with an aggressive deployment of highly trained, low-cost labor to serve Western clients. Now HCL Technologies is out to prove that its savvy use of interest-rate arbitrage can finance a broader second wave of growth.

HCL isn't one of India's technology brand names. Even though it has more than 50,000 employees and operates in more than a dozen countries, the Noida-based company has worked in the shadows of such tech giants as Tata Consultancy Services, Infosys Technologies, and Wipro (WIT). But, now, with a $650 million acquisition of Britain's Axon Group that's scheduled to close Dec. 15, HCL is poised to join India's tech big leagues. "We now have a capability the others don't have," says HCL Chief Executive Vineet Nayar. "We can compete with Accenture and IBM."

Axon is a medium-sized IT consulting firm that focuses on installing applications made by corporate software giant SAP (SAP) of Germany. HCL is folding its own SAP-focused business into Axon to create a $600-million-a-year division that ranks as the only Indian company among the top 10 global SAP installers.

SAP welcomes new installers

Now that HCL owns Axon, its strategy is to approach corporations and offer to provide them with a combination of SAP installation services and remote management of their computing systems from India. This way, Nayar says, he can bring the cost-saving benefits of doing business in India to a realm of IT services long dominated by IBM (IBM), Accenture (ACN), EDS (EDS), and other Western companies. If successful, HCL could put pricing pressures on the major players.

While analysts don't expect HCL to have an immediate negative effect on the giants, they see its growth as a threat to be monitored. "These guys can bring the Indian efficiencies to these kinds of services," says Bruce Richardson, an analyst at market researcher AMR Research. He says SAP is frustrated with the fact that companies that install its software often charge $5 for every dollar the customers pay for the software itself. "It would be good for SAP to have low-cost companies playing a bigger role in this market."

IBM says it isn't spooked by HCL's move. IBM spokesman Tim Blair says HCL can't match IBM's breadth of capabilities, which include 9,000 software programmers and consultants who specialize in dealing with SAP applications worldwide. That includes a cadre of business consultants who not only advise clients about technology matters, but help them deal with business challenges and opportunities. "We have a different business model," Blair says. "We deliver high-value solutions to our clients. A race to the bottom on pricing is not our business model."

Leveraged expansion has been rare

But IBM ought to beware complacency. Since mid-September, HCL has been offering a deal combining SAP installation with remote management of hardware and software. Nayar says he has landed more than $1 billion in new orders this quarter, compared with $270 million the previous quarter. HCL promises customers it will trim routine IT systems management costs by 20%—while changing their technological and business procedures to reap big longer-term savings in efficiency and gains in productivity.

The early results have convinced Nayar that buying Axon was a sound move. "We're buying Axon because they're smart and we're not," he says. "They have a consulting capability that we don't have."

To pay for Axon, Nayar took unusual advantage of HCL's healthy balance sheet, which showed about $500 million in cash and no debt. Few Indian tech outfits use debt to finance acquisitions or fund expansion, but Nayar borrowed money to make his takeover offer. He says he'd rather hold onto his cash—and rake in interest of 10% to 11% from it—while borrowing dollars at little more than 5% interest to finance additional acquisitions and pay for overhauls of clients' software. He says that with his AAA credit rating, HCL will have no problem raising money in the U.S.

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